Aviva 2014 Annual Report Download - page 281

Aviva plc Annual report and accounts 2014
277
Friends Life by Aviva plc. The proposed acquisition is subject to a
number of conditions including approval from shareholders at a
general meeting on 26 March 2015. If completed, the principal
impact on the Group’s risk profile of the transaction will be to
increase our exposure to equity price risk and UK life insurance
risks, in particular lapse risk.
During 2014 the Group has continued to reduce its financial
leverage consistent with the requirements for achieving the
Group’s target credit rating of AA. We expect a further
reduction following the completion of the proposed acquisition
of Friends Life (though clearly execution risk remains).
Low interest rate environment
The Group continues to be adversely impacted by the low
interest rate environment in a number of markets around the
world. This has resulted in reduced interest spread on
participating contracts (the difference between the amounts
that we are required to pay under the contracts and the
investment income we are able to earn on the investments
supporting our obligations under those contracts), and current
reinvestment yields being lower than the overall current
portfolio yield, primarily for our investments in fixed income
securities and commercial mortgage loans. We anticipate that
interest rates may remain below historical averages for an
extended period of time and that financial markets may
continue to have periods of high volatility. As a result we
continue to rebalance the Group’s revenues towards product
lines, such as protection, that are not significantly sensitive to
interest rate or market movements. Further information on the
Group’s exposure to low interest rates is included in the
sensitivity analysis in Note 58 of the IFRS Financial Statements.
Capital management
Capital management objectives
The primary objective of capital management is to optimise the
balance between return and risk, whilst maintaining economic
and regulatory capital in accordance with risk appetite. Aviva’s
capital and risk management objectives are closely interlinked,
and support the dividend policy and earnings per share growth,
whilst also recognising the critical importance of protecting
policyholder and other stakeholder interests.
Overall capital risk appetite, which is reviewed and approved
by the Aviva Board, is set and managed with reference to the
requirements of a range of different stakeholders including
shareholders, policyholders, regulators and rating agencies. Risk
appetite is expressed in relation to a number of key capital and
risk measures, and includes an economic capital risk appetite of
holding sufficient capital resources to enable the Group to meet
its liabilities in extreme adverse scenarios, on an ongoing basis,
calibrated at a level consistent with a AA range credit rating.
In managing capital we seek to:
• maintain sufficient, but not excessive, financial strength in
accordance with risk appetite, to support new business
growth and satisfy the requirements of our regulators and
other stakeholders giving both our customers and
shareholders assurance of our financial strength;
• optimise our overall debt to equity structure to enhance our
returns to shareholders, subject to our capital risk appetite and
balancing the requirements of the range of stakeholders;
• retain financial flexibility by maintaining strong liquidity,
including significant unutilised committed credit facilities and
access to a range of capital markets;
• allocate capital rigorously across the Group, to drive value
adding growth through optimising risk and return; and
• declare dividends with reference to factors including growth in
cash flows and earnings.
In line with these objectives, the capital generated and invested
by the Group’s businesses is a key management focus. Capital is
measured and managed on a number of different bases. These
are discussed further in the following sections.
Accounting basis:
Capital employed by segment and financing of capital
The table below shows how our capital, on an IFRS basis,
is deployed by segment and how that capital is funded.
2014
£m
2013
£m
Long-term savings 10,579 11,224
General insurance and health 6,007 5 ,986
Fund management 298 237
Corporate and other business1702 (1,305)
Total capital employed 17,586 16,142
Financed by:
Equity shareholders’ funds 10,018 7,964
Non-controlling interests 1,166 1,471
Direct capital instruments and fixed rate tier 1 notes 892 1,382
Preference shares 200 200
Subordinated debt 4,594 4,370
Senior debt 716 755
Total capital employed 17,586 16,142
1 Corporate and other business includes centrally held tangible net assets, the main UK staff pension scheme
surplus and also reflects internal lending arrangements. These internal lending arrangements, which net out on
consolidation include the formal loan agreement between Aviva Group Holdings and Aviva Insurance Limited
(AIL).
2 Internal capital management mechanisms in place allocated a majority of the total capital of AIL to the UK
general insurance operations with the remaining capital deemed to be supporting residual (non-operational)
Pillar II ICA risks.
3 Certain subsidiaries, subject to satisfying stand-alone capital and liquidity requirements, loan funds to corporate
and holding entities. These loans satisfy arm’s length criteria and all interest payments are made when due.
Total capital employed is financed by a combination of equity
shareholders’ funds, preference capital, subordinated debt and
borrowings.
At 2014 we had £17.6 billion (2013: £16.1 billion) of total
capital employed in our trading operations measured on an IFRS
basis.
In July 2014 we issued €700 million of Lower Tier 2
subordinated debt. This bond has a 30 year term and may be
called from July 2024. The proceeds were used to redeem a
€700 Direct Capital Instrument at its first call date in November
2014.
Regulatory capital – overview
Individual regulated subsidiaries measure and report solvency
based on applicable local regulations, including in the UK the
regulations established by the Prudential Regulatory Authority
(PRA). These measures are also consolidated under the
European Insurance Groups Directive (IGD) to calculate
regulatory capital adequacy at an aggregate Group level, where
we have a regulatory obligation to have a positive position at all
times.
This measure represents the excess of the aggregate value of
regulatory capital employed in our business over the aggregate
minimum solvency requirements imposed by local regulators,
excluding the surplus held in the UK and Ireland with-profit life
funds. The minimum solvency requirement for our European
businesses is based on the Solvency 1 Directive. In broad terms,
for EU operations, this is set at 4% and 1% of non-linked and
unit-linked life reserves respectively and for our general
insurance portfolio of business is the higher of 18% of gross
premiums or 26% of gross claims, in both cases adjusted to
reflect the level of reinsurance recoveries. For our business in
Canada a risk charge on assets and liabilities approach is used.
Other information
Aviva plc Annual report and accounts 2014 |277